Inside one Chicago startup's plan to target spoofers

As trading companies scramble to obey new anti-spoofing rules, one Chicago software startup stands to benefit from the rush to comply.

Chicago-based Neurensic, formed this year by David Widerhorn and three co-founders, has raised $3 million to expand a software business that sells tools to help futures traders and brokers follow the rules barring disruptive trading practices, like spoofing. "Spoofers" place orders with the intent to quickly snuff them out and profit from price changes.

Widerhorn, who is CEO, says the firm also has worked with exchanges and regulators that it can't identify and plans to cultivate more of those clients.

NEW REGULATIONS

The trading industry is adapting to new regulations on trading strategies that grew out of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Although the law was passed in 2010, federal regulators and prosecutors just started enforcing the edict over the past year, with the first criminal prosecution of a spoofer last month in Chicago and more cases on the way.

“They need the ability to proactively monitor their activity and find the needle in the haystack when it comes to compliance risk,” Widerhorn says of clients.

The company's launch client this year for one of its key software products was Chicago-based futures broker Advantage Futures, which like other so-called futures commission merchants, or FCMs, guarantees traders' orders. The brokers can use the Neurensic tool to identify the riskiest traders, allowing them to charge those professionals higher fees to compensate for the riskier strategies, Widerhorn says.

“This is a very important topic on the regulatory horizon,” says Advantage Futures CEO Joseph Guinan. “We feel a little bit ahead of the curve in getting this state-of-the-art tool.”

FCMs do need to monitor their customers' activities more closely, says Ian Polakoff, a consultant at RPM Financial Markets Group. The exchanges are using that type of technology for surveillance of their markets, too, he says.

Neurensic also offers a tool to help firms monitor and manage their trading professionals' activity for patterns that raise a red flag with respect to potential violations.

It isn't the only company to offer such software products in what Widerhorn expects is a $3 billion market. Nasdaq also sells the Smarts suite of products.

Still, Widerhorn distinguishes Neurensic's technology, saying its machine-learning capabilities use years of data sourced from regulators, exchanges and trading firms to zero in on problematic patterns.

PLANS TO EXPAND

Widerhorn, 27, is a Massachusetts Institute of Technology graduate who worked at Chicago hedge fund firm Citadel and proprietary trading firm TransMarket Group before founding his own consulting firm in 2009. With the development of the new technology tools aimed at spotting disruptive strategies, he folded the firm into Neurensic.

Most of Neurensic's investors are friends and relatives as well as traders, but the firm is raising additional funds and is targeting another $7 million by early next year.

It has 30 employees, but Widerhorn is confident enough in its prospects that he plans to have 100 by next year as he expands the office space in the Loop to 9,600 square feet.

Hired to help Widerhorn troll for new clients is Leo Melamed, chairman of Neurensic's board of advisers. Melamed, who has his own industry consulting firm, is also chairman emeritus of futures exchange operator CME Group's board and a permanent special adviser to the executive committee of the National Futures Association's board.